Growth is local, inflation is global

An unexpectedly high US inflation report for March suggests that the Federal Reserve may turn less accommodative and postpone interest rate cuts. However, there is an aspect of inflation that may not be widely appreciated: its relative disconnection from local influences. In this week’s Simply put, we explore how significant the global trend of disinflation may be for the Fed. 

A global question for the Fed

A recent shift in the tide of inflation has significant implications for central banks, particularly the Fed. The surprising March inflation report suggests that the Fed may adopt a slightly less accommodative stance and delay rate cuts. It is true that services inflation remains prominent in the US and could give the Fed cause for concern.

However, growth has a more localised impact than inflation does – a fact that may be underestimated in this analysis. Given the prevailing worldwide disinflationary trend, US inflation is likely to be tempered. This raises the question: how global is the current situation in the US?

What is exceptional in US exceptionalism?

When it comes to both growth and inflation, the US has captured a fair share of attention in recent years. The country is typically slightly ahead in the global economic cycle, but the magnitude of fiscal spending has created truly exceptional economic conditions. Inflation figures in the US were the first to rise and signaled in 2021-2022 that numerous other countries were headed the same way. How much of this can be attributed to ‘exceptionalism’ versus the standard US advance?

Figure 1 attempts to measure this by comparing the trajectory of quarter-on-quarter GDP growth and year-on-year inflation with what would occur if the US displayed no exceptionalism – meaning if it behaved similarly to the rest of the world. The chart provides a clear illustration: the current growth trends are abnormal. Although US growth is currently surpassing 3%, it should typically hover around 1.5%. The inflation situation is quite different, with both the US Consumer Price Index YoY and its impact on global inflation aligning closely. While growth in the US is exceptional, inflation appears to be less so. Is this always the case?

FIG 1. US GDP (left) and inflation (right) compared with their expected values given world growth and inflation

Source: Bloomberg, LOIM. As of April 2024. For illustrative purposes only. Past performance is not a guarantee of future returns. World growth and inflation are estimated from the average of the z-scored quarterly GDP growth and year-over-year inflation in the following countries: Switzerland, France, Germany, Italy, United States, UK, Sweden, Canada, Brazil, South Africa, India, China, Japan, Australia, and New Zealand.

Riding the world disinflation wave

Figure 2 attempts to shed light on whether US growth frequently diverged from global growth in recent decades. The same question applies to inflation. The chart illustrates the historical correlation between US growth/inflation and global growth/inflation from 1999 to 2024. It reveals that over this period, US growth exhibited a strong correlation throughout the entire sample. A macro-focused reader will quickly grasp why: the period includes 2020, the year of widespread Covid-related economic shutdowns, and the subsequent reopenings. Consequently, this correlation figure is probably overstated.

When the year 2020 is excluded from the computation, the correlation figure plunges from 71% to 33%, indicating a shift from a majority to a minority of co-movement. With inflation, the situation is markedly different. With or without 2020, the result remains consistently around 50%.

What investment lesson can be gleaned from this analysis? Eliminating the influence of 2020 suggests that growth is more localised than global, while inflation appears to be evenly split between global and local influences. This figure would be even higher if emerging economies (where inflation is more exposed to food prices) were excluded. If inflation is at least equally global and local, the current global disinflationary environment could benefit the US economy. Such a global trend would support disinflation in the US – a factor that Fed Chair Jerome Powell will need to consider when deciding whether or not to cut rates over the summer.

FIG 2. Correlation between local and global growth and inflation – 1999-2024

Source: Bloomberg, LOIM. As of April 2024. For illustrative purposes only. Past performance is not a guarantee of future returns.

Macro/nowcasting corner

The most recent evolution of our proprietary nowcasting indicators for global growth, global inflation surprises and global monetary policy surprises are designed to track the recent progression of macroeconomic factors driving the markets.

Our nowcasting indicators currently show:

• Our growth indicator continues to progress, particularly this week in the US, where the data indicate a consistent improvement trend
• US inflation is currently registering high on our inflation nowcaster, primarily driven by the ongoing strong growth momentum in the country
• Our monetary-policy surprise indicator consistently aligns with this message, as it has recently been on the rise. This emphasises how central-bank policies are increasingly being tested by the prevailing data

World growth nowcaster: long-term (left) and recent evolution (right)

World inflation nowcaster: long-term (left) and recent evolution (right)

World monetary policy nowcaster: long-term (left) and recent evolution (right)

Reading note: LOIM’s nowcasting indicators gather economic indicators in a point-in-time manner in order to measure the likelihood of a given macro risk – growth, inflation surprises and monetary policy surprises. The nowcaster varies between 0% (low growth, low inflation surprises and dovish monetary policy) and 100% (the high growth, high inflation surprises and hawkish monetary policy).

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